How to unwind a spousal loan

A spousal loan can be a useful tool for splitting income with a lower income spouse. It is a prescribed rate loan that legitimately avoids the spousal income attribution rules and allows a higher income spouse to loan money to a lower-income spouse to invest and have interest, dividends, and capital gains taxed on their tax return. 

Prescribed rate

The prescribed rate is determined by the Canada Revenue Agency (CRA) each quarter and applies to loans made during that quarter. The current interest rate used for low-interest loans is 3% as of Q1 2026. 

It fell to 1% in 2020 for 2 years following the pandemic onset and was 1% as well for several years during the 2010s. As a result, lots of taxpayers took advantage of this low threshold and established loans that are still at that same low rate. 

Repaying a spousal loan

You are not required to repay a spousal loan, though you are required to make the annual interest payments by January 30 to avoid income attribution. You may need or choose to repay the loan at some point. 

The borrower can pay back the spousal loan principal using any source, including the investments purchased with the borrowed funds. The borrower can also use their income or other assets to repay a loan. 

Selling investments purchased with the borrowed funds can trigger capital gains. 

Forgiving a spousal loan during your life

If you forgive a spousal loan during your lifetime, special tax rules called “debt-forgiveness rules” may apply to the spouse who borrowed the money. The borrower may have to reduce their non-capital or capital loss carryforwards, if they have any, by up to the amount of the debt forgiven.

Otherwise, they need to reduce the adjusted cost base for depreciable or capital property to increase the future capital gain on sale for these assets. 

Any remaining forgiven amount is included in the borrower’s income as a capital gain in the year the loan is forgiven.

Forgiving a spousal loan on death

A spousal loan is not required to be repaid or forgiven. In fact, it can remain outstanding for many years with the initial interest rate when the loan was made continuing to apply. 

If the lender dies and the loan is forgiven upon their death, the debt forgiveness rules do not apply. Nor do the spousal attribution rules apply to income earned from assets purchased by the borrower with the spousal loan. 

Summary

Spousal loans require proper documentation, tax reporting, and adherence to the annual interest payment rules. 

There can be adverse tax implications if a loan is forgiven. Although a spousal loan does not need to be repaid, there may be cases where it makes sense to do so. 

Read more from Ask a Planner:

• Can I still use my FHSA after my spouse bought a condo?
• Preparing taxes for someone who died
• How does rent from a family member or common-law partner get taxed?

The post How to unwind a spousal loan appeared first on MoneySense.